One of Warren Buffett's companies is fighting charges it helped a customer cook its books.
For insurance gumshoes it's as improbable a scenario as finding a man with a smoking gun standing over a corpse. The scam is for a company to lend money to another but call it "insurance" instead so the borrower doesn't have to put debt on its balance sheet. The problem is, the perpetrators are usually smart enough not to put any incriminating stuff in writing.
That is, unless they work for Warren Buffett.
In a case filed in November in U.S. District Court in Richmond, Va. that state's insurance commissioner accuses General Reinsurance, a subsidiary of Buffett's Berkshire Hathaway, of helping a now-defunct medical and legal malpractice insurer dress up the books with just such a disguised loan, among other "secret" deals. And he says he has e-mails from Gen Re to prove it.
Gen Re, based in Stamford, Conn., says it has e-mails of its own exonerating it and that it was only named as a defendant because it has lots of money. Hanging in the balance are 18,000 doctors and lawyers with $200 million in unreimbursed claims who were forced to scramble for replacement insurers.
It's a complicated suit, and it's not clear where bad — but legal — industry practices end and fraud, if there's any, begins. But the case follows the collapse of four American, Australian and British firms caught in allegedly similar schemes and an SEC settlement in September to keep American International Group from hawking such bogus insurance (FORBES, Oct. 6, 2003).
Seeds of trouble
The seeds of today's troubles were planted in 1989 when the privately held malpractice insurer Reciprocal of America asked Gen Re for help moving money offshore to cut its tax bill. Gen Re agreed to pay future claims under some ROA policies in exchange for customers' premiums —that is, it reinsured ROA. But then it passed much of this claims risk to another reinsurer, a Bermuda outfit called First Virginia that was run by ROA management and paid little in U.S. taxes.
At first, providing this not-uncommon middleman service was no problem for Gen Re. But insurance claims started flowing in, and money flowed out of First Virginia.
In 1998 Gen Re helped bolster First Virginia's finances by taking some risk back from the Bermuda company — in effect reinsuring its reinsurer. But this was "sham reinsurance," according to the complaint. Gen Re allegedly worked out a secret deal obligating ROA to "make [Gen Re] whole" if it got stuck with big claims, according to a letter written by a Gen Re executive that is cited in the suit. In effect, ROA would be paying back Gen Re for providing First Virginia with a "booking benefit" or "loan," to quote the Gen Re executive in two subsequent e-mails.
How to get this money back to Gen Re without anyone's noticing? ROA, the Gen Re letter instructed, would simply "renew at higher attachments." Translation: ROA would pay inflated fees for Gen Re services in future years.
Gen Re says there was no "deal," and indeed it lost $15 million or so despite this "noncontractual understanding."
As malpractice claims climbed, Gen Re struck a few other reinsurance deals shifting risk back to ROA and allegedly helped to keep them secret. Gen Re says it disclosed the deals in a March 2001 letter to ROA auditor PricewaterhouseCoopers, which is also charged in the suit. PricewaterhouseCoopers won't comment on specific allegations but calls the Virginia regulator's charges "baseless" and notes that even the suit states ROA had misled it.
When ROA was seized in January 2003 financial filings showed $47 million in net worth. The suit says the real figure is $4 million.
The complaint is seeking triple damages under federal racketeering statutes. Gen Re says it will ask the court to dismiss it as a defendant. Those e-mails, though, could get in the way.